Flexible Budgets, Overhead Cost Management, and ActivityBased Budgeting

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• Flexible Budgets,Overhead Cost Management,
  andActivity-Based Budgeting

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Flexible Overhead Budget
A flexible budget is a budget that is valid for a
relevant range of activity. It is not based on
only one level of activity as we have seen with
the static budget.
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Advantages of Flexible Budgets
A manager is faced with the following information
from the static budget for June when the level of
activity was 4,500 machine hours. Was there good
control of electric costs?
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Activity Measure Based on Input or Output?
The number of units of output usually is not a
meaningful measure in a multiproduct firm because
it requires the addition of numbers of dissimilar
products. Output should be measured in terms of
the standard input allowed given actual output.
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Formula Flexible Budget
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Flexible Overhead Budget Illustrated
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Flexible Overhead Budget Illustrated
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Flexible Overhead Budget Illustrated
24,360 16,550 40,910
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Flexible Overhead Budget Illustrated
Normal costing
Standard costing
Manufacturing Overhead
Manufacturing Overhead
ActualOverhead
AppliedOverhead
ActualOverhead
AppliedOverhead
Actualactivity
Standardallowed activity


Predeterminedoverhead rate
Predeterminedoverhead rate
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Choice of Activity Measure

• The activity measure should be one that varies in
  a similar pattern to the way that variable
  overhead varies.
• As automation increases, many companies are using
  measures such as machine hours or process time
  for their flexible overhead budget.
• Dollar measures are subject to price-level
  changes and fluctuate more than physical measures.

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Overhead Cost Variances
Variable-Overhead Variances
AH AR
AH SR
SH SR
Variable-overheadspending variance
Variable-overheadefficiency variance
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Variable-Overhead Variances
Matrix Inc. has the following variable
manufacturing overhead standard tomanufacture
one tent 1.5 standard hours per tent at 13.00
perdirect labor hour Last week 1,550 hours
were worked to make 1,000 tents, and 20,460 was
spent forvariable manufacturing overhead.
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Overhead Cost Variances
Variable-Overhead Variances
AH AR
AH SR
SH SR
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Overhead Cost Variances
Variable-Overhead Variances
AH AR
AH SR
SH SR
1,55013.20
1,55013.00
1,50013.00
20,460
20,150
19,500
310 Unfavorable
650 Unfavorable
Variable-overheadspending variance
Variable-overheadefficiency variance
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Overhead Cost Variances
Variable-Overhead Variances
AH AR
AH SR
SH SR
1,55013.20
1,55013.00
1,50013.00
20,460
20,150
19,500
310 Unfavorable
650 Unfavorable
Variable-overheadspending variance
Variable-overheadefficiency variance
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What Does the Efficiency Variance Reveal?
Variable-overhead efficiency variance did not
result from using more of the variable-overhead
items than the standard allowed amount.
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What Does the Spending Variance Reveal?
An unfavorable spending variance simply means
that the total actual cost of variable overhead
is higher than expected after adjusting for the
actual quantity of activity used.
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Fixed-Overhead Variances
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Fixed-Overhead Variances

• Matrix, Inc. prepared this flexible budget for
  overhead

The companys actual fixed overhead for the
period was 8,450, and it operated at a standard
3,200 machine hours. Matrix budgeted 3,000
machine hours during the period.
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Fixed-Overhead Budget Variance
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9,000
8,450
550 Favorable

Budget Variance Results from paying more or less
than expected for overhead items.
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Fixed-Overhead Variances
3,200 hours3.00 per hour9,600
Volume VarianceResults from operating at an
activity level different from the denominator
activity.
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9,000
600 Favorable
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Fixed Overhead Variances
Cost
9,000 budgeted fixed OH
550FavorableBudget Variance

8,450 actual fixed OH
Fixed overhead applied to products
Volume
3,000 Hours ExpectedActivity
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Fixed Overhead Variances
Cost
9,600 applied fixed OH
600FavorableVolume Variance

9,000 budgeted fixed OH
Fixed overhead applied to products
Volume
3,000 Hours ExpectedActivity
3,200 StandardHours
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Capacity Utilization
Results when standard hoursallowed for actual
output differsfrom the denominator activity.
Unfavorablewhen standard hourslt denominator
hours
Favorablewhen standard hoursgt denominator hours
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Several Types of Analyses
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Overhead Cost Performance Report
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Overhead Cost Performance Report
1,680 1,800 2,500 5,980
unfavorable57,000 - 62,980 5,980 unfavorable
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Standard Costs in Product Costing
In a standardcost system
Unfavorablevariances are equivalentto
underapplied overhead.
Favorablevariances are equivalentto overapplied
overhead.
The sum of the overhead variancesequals the
under- or overappliedoverhead cost for a period.
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Disposition of Variances
Manufacturing Overhead
Cost of Goods Sold
ActualOverhead
AppliedOverhead
50,000
44,500
5,500
An alternative accounting treatment is to prorate
underapplied or overapplied overhead among
Work-in-Process Inventory, Finished-Goods
Inventory, and Cost of Goods Sold.
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Activity-Based Flexible Budget
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How Does ABC Affect Performance Reporting?
The activity-based flexible budget provides a
more accurate benchmark against which to compare
actual costs.
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Standard Costing in A JIT Environment
A just-in-time manufacturing setting minimizes
inventories. Some companies have simplified
their accounting system by charging all
manufacturing costs directly to Cost of Goods
Sold.
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End of Chapter 17